Why the bonds must be tradeable

Why make the bonds tradable?This page and the others under the Features head contain posts that appeared first in the Social Policy Bondsblog

A critical feature of Social Policy Bonds is that they are tradeable. In this they differ from Social Impact Bonds. There are several advantages in the bonds' being tradeable:

1. Tradeability encourages the targeting of broad social goals that might require a long time to be achieved. How so? People would buy the bonds only if they expect to make a profit on them. If they're not tradeable, that means they'd have to hold them to redemption to make a profit. That in turn means that would-be investors would want any targeted goal to have a realistic chance of being achieved within their time horizon, which might be quite short, and certainly well within a single lifetime. And that means no targeting of things like ending global conflict, or slashing crime rates, or making meaningful inroads into climate change etc. Of course, incremental targets (cutting crime by 2 percent) might be targeted by such bonds, but that's messy and that sort of reduction could be achieved by chance. Most likely, if the bonds weren't tradeable, you'd get very narrow objectives, such as those being targeted by Social Impact Bonds (in the UK), like reducing the recidivism rates of people leaving one of the UK's prisons. That's fine and laudable, but it is limited. And because it's so limited, with limited opportunities for shifting resources to and from different projects, different approaches, and varying them as circumstances change, so too are the advantages of a bond regime, which are most marked when we do not specify how certain goals shall be achieved, but leave that up to bondholders to explore and investigate all the options. If we think of it from the bondholder's point of view: we want payback within, say, five years. We're not going to undertake much research or try any different approaches unless they have a very short lead time and are almost guaranteed to work. There is little scope for experimentation and trying totally new approaches, or for long-term research in that sort of policy environment.

2. When we have such small objectives, the costs of monitoring progress toward or away from their achievement is going to be a higher proportion of the total administrative costs than they would under a regime that could target broader goals. It's almost as easy (or not much more difficult) to monitor national crime indicators, say, as to look at the behaviour of group of a few hundred specific ex-prisoners in one part of the country over several years.

3. Another important reason why the bonds should be tradeable, is because the people best placed to achieve a targeted objective will change over time. Most social and environmental goals will require multiple steps before they are reached. The people who are best at step one will not necessarily be those who are best at step two and all subsequent steps. We cannot even specify in advance what step one, or indeed any step, will entail; still less can we identify those best placed to take these steps. If the bonds are tradeable, that's fine; the market for Social Policy Bonds will ensure that the bonds are always in the hands of the most efficient operators. If the bonds are not tradeable, then we have something not sufficiently dissimilar from the way social policy is currently implemented: government identifies some organisation, often one of its myriad own agencies, and pumps money into it. If this agency is paid for performance (as in Social Impact Bonds), it has an incentive to perform well - which is an improvement on the way things are usually done. But if, as so often, one or all of the steps necessary to resolve the targeted problem optimally lie beyond the imagination or competence of that agency, then we are going to be stuck with current (woeful) levels of under-achievement in social and environmental policy. Social Policy Bonds have the advantage in that they not only do not stipulate how society's goals are to be achieved, but they also leave the selection of those who shall achieve these goals to the market, rather than high-up people in government or elsewhere. These people might be competent in their field, hard working and well intentioned, but nevertheless incapable of or unwilling to contract the best people for the job. In contrast, the market for Social Policy Bonds would favour the most cost-effective operators at every stage on the way to achieving social goals.

4. If the bonds weren't tradeable, no would-be investors would monitor progress toward the achievement of the targeted goal. All the monitoring would have to be done by the backers of the bonds. There would be no market for non-tradeable bonds, so there would be no bond price nor changes in bond price to indicate how close the objective is to being achieved. That backers of the bond would have to be more diligent about monitoring than under a tradeable regime, where the market price of the bonds would do much of the monitoring work on behalf of the backers until the objective were close to being achieved. My book goes into lengthy detail about the information conveyed by market prices for Social Policy Bonds and their fluctuations, all of which would be lost if the bonds weren't tradeable. Such information would be extremely valuable to policy makers, and to society as a whole.

For more about my views on Social Impact Bonds, see this page, and the links therein